Middle Eastern oil-producing countries need to avoid unwanted consortia

The next few years will not be easy for the region’s petroleum sector, writes Robin Mills.

In the 1970s, the president of Egypt, Anwar El Sadat, launched his “Infitah” – opening – to foreign investment. The 1990s brought Venezuela’s similarly-named Apertura in its petroleum sector. And during 1998’s price slump, all the oil exporting countries in the Middle East made plans to bring in foreign investment. Now, with the return of lower oil prices, the region should again seek international partners to meet the economic challenge.

There are four reasons a country might open up to foreign investment in its oil sector – to raise capital, find new resources, improve efficiency and gain value from linked investments. Qatar’s late 1990s opening succeeded because it had a clear idea of what it wanted – the world’s biggest liquefied natural gas industry – and allowed its foreign investors attractive returns in the process. Many other countries had either no clear objectives, or too many.

The UAE and Iran have made some progress, but deals in Kuwait and Saudi Arabia never got off the ground. Just as the bureaucratic machinery geared up, prices began to recover, and the incumbent national oil companies resisted. The bidding systems were apparently designed to be as convoluted as possible.

Oil companies were forced into consortia with partners they did not like, to do projects they did not want, for profits that were too low.

Middle Eastern countries need to avoid these traps this time around.

Given intense competition for capital, contracts need to balance risk and reward. Politically tricky locations such as Iraq, Iran and Libya have to be realistic in that they need to offer more generous terms than a secure UAE or Qatar. Companies will prioritise and assign their best people to their most lucrative opportunities.

The Kuwaiti, Iranian and Iraqi contracts gave the government about 98 per cent of the value of projects.

So finding major new fields, maximising recovery from old fields, saving costs and executing developments quickly is worth far more to the host country than zero-sum haggling over a few extra dollars of tax take.

Investment is needed even more in gas than in oil, given the region’s growing gas shortages. So gas prices need to be transparent – not exhaustingly negotiated, as currently in Egypt – and at fair-market levels.

Gas companies need the opportunity to participate through the entire value chain – domestic sales, petrochemicals, exports – where their commercial skills add far more to the economy than the simple extraction process.

Who will resist the entry of international investment? Some of the less-efficient national oil companies, who are worried about being exposed to competition. “Resource nationalists”, who rail against foreign investment in natural resources as selling a country’s birthright. And governments, who may worry about losing control of this strategic sector.

How can such concerns be addressed? National oil companies can look to peers such as Statoil, Petronas and Petrobras, driven by competition at home to become internationally capable national champions and technical leaders.

National pride in a country should rely on the excellence of its people, not the possession of a sticky black fluid. As the United States has demonstrated, domestic private companies and capital generate both value and political support.

The Middle East has too few world-class companies – local private-sector oil players are few and small in scale. They need more opportunities to grow at home.

Control does not lie in supervising every detail of international oil companies’ operations, as Iraq tries to do. If the government can do that, why would it need the companies at all? Instead, as in Norway, it requires a clear and consistent energy policy, a professional regulator and contracts that align the interests of investor and host government.

The next few years will not be easy for the region’s petroleum sector. The countries that get out first in attracting top-class international partners will win out over the others, in a potential new opening of the world’s greatest hydrocarbon resources.

Robin Mills is the head of consulting at Manaar Energy, and author of The Myth of the Oil Crisis